Hopes for a fresh reform trajectory for the German economy suffered a serious blow on Tuesday. Friedrich Merz, the man expected to drive the country’s modernisation as chancellor, failed to secure a parliamentary majority during a first vote in the Bundestag, despite a formal coalition agreement with the Social Democrats. The turmoil casts doubt on the authority of the incoming government and deepens uncertainty over the future of its policy programme.
Merz on Tuesday morning received backing from 310 members of the 630-seat Bundestag, six short of the 316 needed for confirmation. An unprecedented second vote six hours later gave him 325 votes, enabling him to succeed Olaf Scholz as Germany’s next chancellor.
“This was a curveball to the new government and does showcase the thin majority of the new government.”
Philippe Schweneke, DWS
“This was a curveball to th
e new government and does showcase the thin majority of the new government,” Philippe Schweneke, co-head of European equities at DWS told Investment Officer following the second vote.
Schweneke said he believes that Tuesday’s tumultuous vote will embolden the Merz government to deliver on its ambitious reform plans and “follow through with its intention to focus on meaningful change and impact already by summer”.
“If achieved, todays rough start will become an interesting, but not impactful footnote,” he said.
Some MPs said to seek leverage
Charles-Henry Monchau, CIO at Syz Group, a Geneva-based private bank, said Merz’s vote was «embarrassing” but that the vote was likely used by some in the coalition to gain leverage for future policy decisions.
“We see today’s surprise as a sign that Friedrich Merz will have to compose with different views within his coalition, which may limit the implementation of some needed structural reforms,” Monchau told Investment Officer, adding however that he does expect the Bundestag to support large defense and infrastructure plans.
“Most future legislation will not require an absolute majority or a secret ballot, reducing the risk of similar setbacks in regular parliamentary business.”
Charles-Henry Monchau, Syz Group
Similar setbacks not expected
“Most future legislation will not require an absolute majority or a secret ballot, reducing the risk of similar setbacks in regular parliamentary business,” he said.
Other financial commentators, speaking before the second vote, said the development demonstrates the magnitude of the challenge that Merz has to overcome.
«It was supposed to be the start of a new beginning, but it turned out to be a day of big frustration,” said Carsten Brzeski, global head of macro at ING, in a note. “Not everyone seems to have understood the sense of urgency and the need to have a functioning government. The hope that the designated next German government will be able to push ahead quickly with investments and reforms has been shattered.”
‘Unprecedented failure’
At Berenberg Bank, chief economist Holger Schmieding described Tuesday’s events as “a bad surprise” and “unprecedented failure”. The sequence of events «will sow some doubts about his ability to fully pursue his agenda, damaging his domestic and international authority at least initially.”
Merz’s policy programme includes a 500 billion euro infrastructure fund, intended to revitalise traditional sectors such as construction and banking while supporting the energy transition. The package had been described as a “historic U-turn” for Germany, particularly the decision to relax the so-called debt brake, which has constrained government budgets since 2009.
Under the title Responsibility for Germany, the coalition agreement outlines long-term investment in infrastructure and defence, alongside a sweeping reform of government administration. Digitisation will be prioritised and bureaucratic hurdles reduced.
Germany seen as top investment destination
Ahead of the installation of the new government, Germany was emerging as the top destination for investors reallocating capital from the United States to Europe, according to asset manager DWS.
According to DWS’ Schweneke, the prospect of these long-term structural changes are already attracting capital inflows. “Since March, we have seen a promising development, with rapid inflows into European ETFs, especially from Anglo-American investors,” he told Investment Officer before the Bundestag voted on Merz.
Schweneke said Germany stands out in Europe thanks to the twelve-year duration of its infrastructure commitments, providing investors with more confidence. Germany also benefitted from the shift in sentiment towards the United States, driven by uncertainty around trade policy.
“Companies say they cannot make a business case for Trump’s inimitable policies. In terms of timing, this coincides well with the clear plans the German government wants to implement,” Schweneke said.
Broader DAX participation
The leading German stock index, the DAX, has been climbing despite weakness in the domestic economy. “Eighty percent of DAX companies’ revenues come from international markets, shielding them from domestic economic weakness,” said Schweneke.
If the new government were to succeed in stimulating domestic demand, profit growth could become more evenly distributed.
“The DAX is currently top-heavy, with tech giant SAP as the dominant player, which regularly has to be reweighted due to its size. It is reminiscent of the ‘Magnificent Seven’ in the US. It would be welcome if the profit contributions were more broadly supported by other companies in the index.”
On Tuesday however, the DAX index gave up some of the gains it booked in recent weeks. By early afternoon it stood 0.75 percent lower and it remained steady once the results of the second vote came in late afternoon. Germany’s 10-year government bonds, considered the benchmark for Europe, yielded 2.53 percent, 1.5 basis point more than Monday.
Further reading on Investment Officer Luxembourg:
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